Maximizing Your (Huge) Investment

In my career of helping dentists acquire their practices, obtaining financing is one of the bigger tasks. In previous years, I was dealing with the commercial brick and mortar banks that you pass on the way to wherever you go. These banks are required by federal law to make sure that any loans that they do are collateralized, or backed by something of value that the borrower pledges to them.

Naturally, newly graduated dentists, and actually many associate dentists of long standing, did not have hundreds of thousands of dollars saved up in cash, or expensive homes that were paid off, or a very sizable investment portfolio. That made the bankers unhappy because doing a loan for someone with no collateral could get the banker in serious trouble.

I was always quick to point out, but to no avail, that the young dentist did have an incredibly valuable asset – a dental degree and a dental license. It is not unusual for me to see dental school debts of $400,000 and even more. I would tell the banker of this sizable investment, all the time knowing that it would not impress them because they could not put a dental license in their vault.

When a person makes that huge commitment to apply to dental school, they are also making a huge investment in themselves and in their future. Considering an outlay of $400,000 or more requires that there be a significant return on that investment. By that, I mean a significant profit that is over and above the cost of that investment. Just paying back the investment is not a success, but paying it back and making multiples of profit from the investment is the only justification for the considerable risk of getting that dental degree.

How then does a dentist find and measure that return on investment? Many times, new dentists are intimidated by the debt they have accrued, and change from being risk takers – the person who applied to dental school in the hopes that they would graduate and pass a dental board – to becoming very risk adverse – avoiding the risk of purchasing and owning their own practice.

In an effort to avoid the risk of further debt and management responsibilities, dentists will frequently choose to work for corporations or other dentists as associates. This feels like the safest choice and the lost opportunity that they suffer is not even apparent to them.

But if we are to maximize the investment of getting that dental degree, we have to find the source of that return on investment. Quite simply, the only source of that profit is ownership. Ownership has many rewards – control, security, choices, but mainly profit. Consider the dentist who chooses to work for a corporation. They receive a commission for the work they do. Period. Consider the dentist who owns their own practice. They receive a commission also for the work they do, but in addition to their commission, there is also a profit component.

How does that work? In examining one actual practice that is currently on the market in North Carolina that has a gross of $700,000, the net income of the practice after all expenses is $393,000. Let’s break down that net income because it is neither all profit nor all salary. The salary component, based on 30% of the owners personal production (compared to as little as 25% that associates may be paid) amounts to $165,000. But in addition to this commensurate salary for the work the owner did, they will also receive in addition, a profit, or return on their investment, of $252,000, a 59% rate of return on their investment (practice price) of $430,000, which was borrowed at that.

You’re thinking that is too good to be true, but in this practice, those are the facts. The alternative is to go to work for someone else, makes a lower percent commission, and then try to invest some savings in the stock market and hope for an average of 7% , as seen in the period 2008 through 2014. Meanwhile, the owner of this practice will make a 59% profit each and every year.

Many dentists would agree that the idea of owning this practice is wonderful, but that it’s not practical and not possible, and certainly not affordable. However the dentists who will look very closely at practice acquisitions usually discover that they cannot afford not to purchase their own practice.

The first concern is that they cannot “afford” to buy a practice. My answer is how can you not afford to make a 30% commission for the work you do, and receive an additional $252,000 in pure profit?. Another concern is that they cannot afford the payments to buy a practice. The payments for this $430,000 practice price plus an additional $35,000 in working capital plus the $164,000 for purchasing the building amount to annual payments of $93,000! That is a huge amount and how could anyone ever pay that? The answer is to simply use part of the $252,000 profit to pay that $93,000 debt service, still leaving $159,000 of profit to invest and live on.

Then some buyers will say, I can’t afford to pay $164,000 for a building while I’m paying $430,000 for the practice too. But if the dentist does not buy the building with a $1,300 per month mortgage payment, they will have to pay $2,000 in monthly rent, which will increase annually. So the choice is pay $1,300 per month for 180 months and own something, or pay $2,000 per month forever, which will increase every year, and own nothing.

Then some dentists will feel that they will have to work too hard to make those monthly payments for the practice, working capital, and building which will total $7,800 per month in the case of this practice. I can understand that, so I prefer to let the hygienist pay for the practice and building for me. The profit from the hygiene department in this practice, after paying the hygienists’ salaries, is $9,200 per month, so the hygienist is paying off the practice and building for the buyer.

Still need more incentive to consider the “risk” of ownership and extremely high salary and additional return on investment? Consider that Uncle Sam has agreed to pay one third of the practice price for you. In virtually every practice purchase sold, the entire price of the practice is tax deductible. For the dentist playing it “safe” and working as an associate rather than purchasing this practice, they will pay $155,000 more in taxes to the IRS. For the dentist buying this practice, they will pay $155,000 less in taxes, and that can be applied to the price of the practice, or more wisely, invested in a retirement plan for future growth.

Many dentists are under the false assumption that they cannot get financing to purchase a practice. In today’s world, there are a plethora of companies that finance dental practice acquisitions. Why do you suppose that is? It is because these lenders have discovered that dental loans are over 99.5% successful. If a dentist can avoid the three d’s – drugs, divorce, and depression – they have a 99.5% probability of success. Sometimes with newer graduates, the Small Business Administration may even be involved, but for a dentist who will not take no for an answer, I can almost always find the money for the purchase.

Purchasers feel that they are taking on a huge risk when it comes to borrowing money for a practice purchase, but consider that all the risk is really on the lender’s part. Lenders are putting up every penny for the acquisition and working capital, while purchasers rarely if ever put up any money. A huge advantage of using lenders is that they are very experienced and very skilled at assessing risk, so if a lender agrees to finance a practice for a borrower who they have not even met, that means the lender is expecting a very high probability of success for that purchaser.

But what about the dentists who don’t know how to run a practice? Again, if you buy a practice, you are in luck. First of all, most sellers are happy to coach and advise buyers on how to handle staff, patients, and the other management elements. For the buyer who doesn’t want to learn the seller’s mistakes – they are marbled in his wisdom like fat in a steak – there are management consultants who can advise owners in how to produce more income with less stress. If you’re concerned about the cost of these consultants, they invariably pay for themselves and much more. And for the owner who wants nothing at all to do with management, there are organizations that will take over all management of the practice for the owner, leaving them with just the task of dentistry.

Still need more convincing to be super successful? Practice owners, while they will complain about how tough they have it, are the happiest, most successful, and highest paid dentists in the profession. Owners have security. They choose who works in their practice and the tone and personality of their practice. They choose the labs and supplies that they want to use. They choose the vendors and contractors that they want. Owners can choose what benefits they want the practice to provide for them and their staff. They can choose retirement plans, health insurance, long term care insurance and if incorporated, can enjoy tax benefits for these and many other benefits. They can choose their continuing education and what direction they want to enhance their skills and knowledge and practice direction. Owners can also hire other dentists to help increase their practice revenues and add that precious business profit to their own bottom line.

In my previous article, we learned how a practice owner can retire with fourteen million dollars more in savings than a dentist who practiced as an associate for an equivalent thirty year career. But there’s an even more noble reason to own your practice, and that is so that you can own your profession. We have seen in other professions that when the professionals and new entrants will defer to the large corporations that the profession ceases to exist and is replaced by a business, whose only obligation to satisfy is to the shareholders, the recipients of the profit that the workers provide. So I urge anyone considering becoming an associate or working for big business to be your own shareholder, and recapture that investment you have made in becoming a dental professional, and not forfeit it to anyone else.

Earl M. Douglas is the author of many articles on dental

transitions. He has also authored software for the financial analysis of dental practices. His company, ADS South, LLC, is engaged in the valuation and sale of dental practices in the Southeast. He can be reached at 770-664-1982 or earl@adssouth.com

This entry was posted on Tuesday, February 20th, 2018 by ADS - Practice Transitions Made Perfect (TM) and is filed under Financial Planning